LRI III, Ltd. v. Halla (In re LRI III, Ltd.)

Citation: 
No. 11-10445 (5th Cir. March 9, 2012) (unpublished opinion and not precedent except as provided by 5TH CIR. R. 47.5.4)
Ruling: 
The Fifth Circuit Court of Appeals agreed with the bankruptcy court and held that a Chapter 11 plan was ambiguous because (1) it did not explicitly state the manner in which a subordinated creditor would be satisfied in full, and (2) it did not explain how a monthly pool of income to be remitted to Debtor was to be spent in light of outstanding creditors. It remanded to the District Court to determine if the bankruptcy court’s findings of fact relating to the interpretation of the plan were clearly erroneous. Governed by Texas contract law, a bankruptcy plan is ambiguous if it is reasonably susceptible to more than one interpretation. Effect must be given to all provisions. Interpretations must be avoided that produce unreasonable, oppressive, or absurd results. The District Court misinterpreted the subordination clause. Payments to class 3 creditors were subordinated to “amounts owed” to class 1 and 2 creditors. The amount owed under the plan to the only class 1 or 2 creditor is the 75% Excess Cash Flow pool that the plan created. It is not the total value of Class 1 Creditor’s claim. Therefore, the plan does not prohibit payments to Class 3 Creditor before Class 1 Creditor’s claim is satisfied. The only source of unrestricted funds in the plan that can potentially be used to pay Class 3 Creditor is the 25% Excess Cash Flow pool. By its plain meaning, the plan gives this pool to Debtor subject only to the restriction that it pays local taxes from it. However, in the context of the entire plan, which does not explain how Class 3 Creditor is to be paid, this provision becomes ambiguous on the point of whether Debtor must use it to pay that claim. Furthermore, the plan does not explain what is to be done with the 75% pool once Class 1 Creditor’s claim is satisfied.
Procedural context: 
The bankruptcy court found the plan to be ambiguous and on the basis of live testimony and extrinsic evidence ruled that the “most natural reading” of the plan was that Debtor was to pay Class 3 Creditor out of the 25% Excess Cash Flow pool. The District Court reversed. It concluded the plan was unambiguous: Debtor could retain the 25% pool because the subordination clause did not allow payments to Class 3 Creditor before Class 1 Creditor's claim was satisfied. Class 3 Creditor appealed.
Facts: 
LRI III, Ltd. (“Debtor”) operated townhouses in Ennis, Texas. At the time of this proceeding, it had only two creditors: Charter Mac Corporation (“Class 1 Creditor”) sole holder of revenue bonds originally valued in excess of $5 million and Life Rebuilders, Inc. (“Class 3 Creditor”), the original property developer, holding an unsecured claim of $932,500. Debtor’s Chapter 11 plan contained two pertinent sections. First, payments to holders of class 3 claims (unsecured subordinated creditors) were subordinated to “any payment owed” to any holder of a class 1 or 2 claim. Second, the plan created a pool from monthly income called Excess Cash Flow, defined as income less operating and capital expenditures. The Excess Cash Flow was to be paid to and then distributed by an Indenture Trustee as follows: 75% to Class 1 Creditor and 25% to Debtor. The plan was later amended to allow for payments of local taxes from the 25% pool. A dispute arose among the parties over whether it was intended that Debtor pay Class 3 Creditor out of the 25% pool. Debtor filed this adversary proceeding for a declaratory judgment that it could retain the 25% pool without paying Class 3 Creditor from it. Class 3 Creditor counterclaimed, arguing that the plan was ambiguous but nevertheless required Debtor to pay it out of the 25% pool.
Judge(s): 
Reavley, Elrod and Haynes